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Analysis of US Supreme Court Decision of Monday, June 7, 2010 on Chapter 13 Bankruptcy

The following is a complex and lengthy analysis of a major law change affecting higher income Debtors (those above the state median income according to household size) seeking Chapter 13 bankruptcy protection. You are welcome to pick through this, but recognize, please do not make a decision as to whether you qualify for bankruptcy relief until after you have consulted with a very experienced and reputable bankruptcy attorney in an in-person, face-to-face consultation. The Hamilton v. Lanning case is discouraging, but an experienced, conscientious, and cautious bankruptcy attorney should be able to help you successfully navigate through a Chapter 13 bankruptcy filing and ultimate plan approval.

In Hamilton v. Lanning decided Monday (June 7, 2010), the Supreme Court held in an 8-1 decision that “when a bankruptcy court calculates a debtor’s projected disposable income, the court may account for changes in the debtor’s income or expenses that are known or virtually certain at the time of confirmation.” In other words, rather than mechanically applying the calculation of “current monthly income” which looks at the Debtor’s income for the 6 calendar months before the filing of the petition, the court can take into consideration changes in income that have occurred or are known or virtually certain to occur at the time of confirmation.

In Lanning, the Debtor had received a buyout from her former employer which, when included in “current monthly income,” dramatically increased her income over what she was really making, and the mechanical approach would have resulted in her having to pay more into the plan than she possibly could afford. Because after the buyout she was making wages well below the state median income, the Supreme Court held that this change in income could be considered in calculating her “projected disposable income.”

However, this “forward looking” approach should not give the Court or the Trustee, or the Debtor, a blank check: as the Supreme Court stated, “a court taking the forward-looking approach should begin by calculating disposable income, and in most cases, nothing more is required. It is only in unusual cases that a court may go further and take into account other known or virtually certain information about the debtor’s future income or expenses.”

While the expense side of “projected disposable income” was not specifically before the Court, the Lanning opinion did state the court may consider changes in income or expenses when calculating projected disposable income. However, it is important to note what was said and not said. The Lanning opinion requires a “change” in income or expenses, not a discrepancy between the expenses allowed on the means test and the Debtor’s actual expenses. For debtors whose “current monthly income” is above the state median, many expenses are determined based on fixed allowances, not on what the Debtor really spends. If the food and related items allowance (set by the IRS) is $1,152 for the Debtor’s household size, but the Debtor only spends $500 on these items, he or she can claim the full allowance in calculating “projected disposable income.” The trustee should not be allowed to recapture that $652 and require that it be paid to creditors. Conversely, if the Debtor spends $1,500, he can still only claim the allowance. Similarly, if the Debtor’s rent is $500 but the IRS allowed mortgage/rental expense is $1,187, the Debtor can claim the full $1,187 deduction. As a result, for many debtors, the fixed “means test” numbers result in a more favorable result than reality as reflected on Schedules I-J (which helps offset the fact that certain other necessary expenses are simply not allowed as deductions on the “means test” calculation). Because this is not a “change,” Lanning should not result in the IRS-allowed expenses being disregarded.

That said, the Lanning opinion could result in disallowance of deductions for secured debt payments where property is being surrendered or perhaps where liens are being stripped down or off, as those could be seen as “changes” in expenses. Otherwise, unless there is a “change” in those expenses (such as secured debt payments) that are allowed as real numbers on the means test, the means test expenses should apply as written. Special thanks to BankruptcyLawNetwork for much of the content of this post. The need for an immediate post mitigated in favor of quoting the qualified experts from the network.

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